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Endogenous Market Power

In this paper we develop a framework to study thin markets, in which all traders, buyers and sellers are large, in the sense that they all have market power (also known as bilateral oligopoly). Unlike the standard IO models our framework does not a priori assume that some traders do or do not have market power because they are large or small. Here, market power arises endogenously for each trader from market clearing and optimization by all agents. This framework allows for multiple goods and heterogeneous traders. We define an equilibrium and show that such equilibrium exists in economies with smooth utility and cost functions and is determinate. The model suggests that trader market power depends positively on the convexity of preferences or cost functions of the trading partners. In addition, market power of different traders reinforces that of other. We also characterize an equilibrium outcome: Compared to the competitive model, the volume of trade is reduced and hence is Pareto ine±cient. Price bias can be positive or negative, depending on the third derivatives.